31 January 2012

What Bread Tells us About Fiscal Policy

It's true that baking bread involves mixing ingredients, letting them rise, and then baking them. It is not true that these steps can be done in any order. Pop the ingredients into the oven before you've mixed them, or before they have had a chance to rise, and your results will be very different. Timing and sequence matter.

The same is true of fiscal policy. It's true that a country would like to get to full employment and would like to run sustainable deficits. It's not true that a country can do this in any order.

Britain elected one of the smartest conservative politicians around, making David Cameron Prime Minister 20-some months ago. Cameron was savvy enough to realize that the outrageous deficits had to be reduced through a combination of tax hikes and budget cuts. He was intent on getting Britain's fiscal house in order and when he first took steps in that direction, the British rewarded him with a rise in poll numbers.

In the last quarter of 2011, though, Britain's GDP contracted. Cameron did the right thing at the wrong time.

Even here in the US, the big push to get our budgets in order is hurting us. GDP growth in 2011 was only 1.7 percent. One reason why is that government spending dropped by 2.1 percent. While the private sector was adding jobs, the public sector was laying off.

Timing seems to be perpetually ignored in the talk about budgets. Balancing budgets before getting to full employment - or at least reaching a strong rate of job creation - is akin to popping unmixed ingredients into the oven. Or, at the very least, baking before the dough has risen.

If this recovery is flat, it might just be because we've let bakers with a belief in instant yeast into the kitchen.